Variable Annuity (GMWB) and Your Retirement Income Plan

Variable Annuity (GMWB) and Your Income Retirement Plan

Guaranteed Lifetime Income

In 2006, I attended an advisor conference and a specific presentation about a new retirement product coming down the pipeline aimed at both retirees and those within 15 years of retirement. Technically it’s called a variable annuity but is more commonly referred as a GMWB or Guaranteed Minimum Withdrawal Benefit. The product was developed because many employers are moving away from defined benefit (DB) to defined contribution (DC) pension plans to eliminate their liability for employee’s pensions in retirement. With a defined contribution plan the employer makes contributions to the employee’s plan but the employee is responsible for investment selection and subsequent performance and long term returns i.e. the employee takes on the risk. These plans can often be over $100,000 at retirement.

When you retire, will you invest these assets in the same manner as you have done in the past? Were they invested in stocks and bonds either directly or through mutual funds? Are you comfortable making withdrawals from these portfolios or do you prefer the income to be guaranteed regardless of market conditions? By market conditions, I don’t just mean stock market volatility but also interest rate volatility because they have a large effect on returns for GICs and bank deposits.

A possible consideration for a portion of your retirement assets is the GMWB. It has appeal because it offers a defined minimum payment immediately or in the future depending upon when you decide to begin the income stream. The income stream increases by 5% for every year you do not take a withdrawal (referred to as a bonus) which will be of interest to those who don’t need to make withdrawals for at least one year year into the future. Also, if markets performed better than a specific threshold you could have an increase in your income payment. Lastly, there may be a death benefit (if you die prematurely) depending how the account performed and what withdrawal amounts were made over time. It’s both a simple and complicated product but what I found most beneficial for clients, was that they knew up front how much they will paid for life guaranteed…hence the name Guaranteed Minimum Withdrawal Benefit.

If for example someone wanted to use a portion of their company Defined Contribution (DC) pension plan (LIRA or LIF) or other retirement asset, how much capital would be required to generate $7,000 annually? If the GMWB had a guaranteed payment for life of 4.5% annually, then $155,555 is required to be purchased, assuming you needed that income immediately.

Lately, many companies have had to re-evaluate their GMWB product offering and either launch hybrid products or in some cases, stop offering the product altogether. This is primarily due to the capital reserves they must put aside to ensure the plans can be fully funded as stated in the policies. With low interest rates and volatile stock markets, this has been a challenge. For those that have already purchased GMWBs, the policies are guaranteed and benefits remain in place.

As with any investment, do your due diligence and work with a qualified advisor that you trust. In my practice, I am able to model both current retirement assets and GMWBs to show the “pros and cons” of using them and help determine the optimal retirement income solution.